The global economy grew strongly in the first half of 2007, although turbulence in financial markets has clouded prospects. While the 2007 forecast has been little affected, the baseline projection for 2008 global growth has been reduced by almost 1/2 percentage point relative to the July 2007 World Economic Outlook Update. This would still leave global growth at a solid 4¾ percent, supported by generally sound fundamentals and strong momentum in emerging market economies. Risks to the outlook, however, are firmly on the downside, centered around the concern that financial market strains could deepen and trigger a more pronounced global slowdown. Thus, the immediate focus of policymakers is to restore more normal financial market conditions and safeguard the expansion. Additional risks to the outlook include potential inflation pressures, volatile oil markets, and the impact on emerging markets of strong foreign exchange inflows. At the same time, longer-term issues such as population aging, increasing resistance to globalization, and global warming are a source of concern.

This chapter examines the relationship between the rapid pace of trade and financial globalization and the rise in income inequality observed in most countries over the past two decades. The analysis finds that technological progress has had a greater impact than globalization on inequality within countries. The limited overall impact of globalization reflects two offsetting tendencies: whereas trade globalization is associated with a reduction in inequality, financial globalization—and foreign direct investment in particular—is associated with an increase in inequality. It should be emphasized that these findings are subject to a number of caveats related to data limitations, and it is particularly difficult to disentangle the effects of technology and financial globalization since they both work through processes that raise the demand for skilled workers. The chapter concludes that policies aimed at reducing barriers to trade and broadening access to education and credit can allow the benefits of globalization to be shared more equally.

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